UK banks sector gets further boost

Virgin Money shares are down after these results, but investors can take heart from strong progress.

More reasons for optimism in the UK banking sector were provided by Virgin Money UK (LSE:VMUK) today, even if the share price reaction in the FTSE 250 index told a different story.

One-off charges worth £173 million in results covering the six months to 31 March triggered a 4% slide in the challenger bank's stock market valuation, with some £71 million of the bigger-than-expected hit caused by legacy conduct issues such as payment protection insurance (PPI).

Looking forward, however, there's reason for investors to be encouraged by the update after the UK's sixth-largest bank reported a significant drop in its impairment charge, down 84% to £38 million to reflect muted levels of Covid-19 influenced defaults.

This stronger-than-expected progress helped Virgin to report an underlying half-year pre-tax profit of £245 million, compared with £120 million the previous year.

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Virgin’s profitability has been hammered by continued low interest rates, but its all-important net interest margin is starting to show signs of modest improvement. It was 1.56% for the half-year, but recovered to 1.60% in the second quarter and is expected to stay around this level across the year amid stronger mortgage spreads and deposit repricing.

A prudent approach to lending in the pandemic meant Virgin reported a steady loan book worth £72.2 billion, including stable mortgage balances of £58.3 billion after prioritising margin over volume. Deposits grew by 1.5% to £68.5 billion over the period.

Chief executive David Duffy said the bank continued to face an uncertain backdrop but that it was well placed with a strong balance sheet showing a strengthened capital cushion of 14.4%.

He added: “We are cautiously optimistic about the improving outlook as the impact of the vaccination programme in the UK delivers positive revisions to economic expectations.”

The update follows encouraging results from some of the bigger UK banks, with the first quarter profit of £1.9 billion from Lloyds Banking Group (LSE:LLOY) one of the stand-out performances after comfortably beating the £1.1 billion expected.

Lloyds went further than Virgin has done today by releasing £459 million of bad loan provisions from its books in order to reflect the improving economic outlook.

Lloyds shares have risen 29% since the start of the year, whereas Virgin is 47% higher when including today's post-results slip to 193p. It is one of UBS banking analyst Jason Napier's favoured picks in the UK sector, although the potential upside is now looking more limited based on his target price of 210p at the start of this week.

He said operating costs in today's results were 4% above estimates but this was offset by the impairment figure of £38 million being two-thirds better than consensus forecasts and the capital cushion also coming in substantially stronger than expected.

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Another FTSE 250-listed financial stock reporting today was OSB Group, the specialist buy-to-let lender and retail savings business trading under the Kent Reliance name.

It made no change to its 2021 guidance today, having grown net loans and advances by 3% in the first quarter to £19.6 billion. Arrears levels were stable and impairment provisions benefited from rising house prices over the period.

In today's brief update, chief executive Andy Golding said the company was well placed to deliver “attractive, sustainable returns” for shareholders across the cycle. Shares today rose 5.2p to 477.2p, leading to a gain of about 14% for this year.